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Is the debt-ridden world heading for a ‘great reset’?

High debt level poses a crisis risk more threatening than pre-global financial crisis peaks

The level of global debt has reached an alarming level of $300 trillion, forcing a “great reset” of borrowing and lending practices and policymaker mindset, says an S&P Global Ratings report.

Amid rising rates and slowing economies, such a high debt level poses a crisis risk more threatening than pre-global financial crisis (GFC) peaks, analysts at S&P warn.

“Policymakers will need to make trade-offs to limit the risks of a full-blown debt crisis — to reset global leverage trends,” write Alexandra Dimitrijevic, global head of research & development, and Terry Chan, a senior research fellow for credit research & insights at S&P Global Ratings. Trade-offs include more cautious lending, reduced overspending, restructuring low-performing enterprises, and writing down less-productive debt. This will require a “Great Reset” of policymaker mindset and community acceptance, they say.

At $300 trillion, the debt level is the combined size that global governments, households, financial corporates, and nonfinancial corporates owe in June 2022, as estimated by the Institute of International Finance. This is equivalent to 349 per cent of the global gross domestic product, 26 per cent higher than the pre-global financial crisis figure of 278 per cent recorded in June 2007.

The total global debt works out to $37,500 of debt for every person in the world, compared with a GDP per capita of just $12,000.

Global growth is expected to slow to one of its lowest rates in recent decades, senior UN economists say. They expect growth to drop to 1.9 per cent in 2023 from 3.0 per cent in 2022 because of intersecting crises such the Ukraine war, surging inflation, debt tightening, and the climate emergency. The World Bank sees growth sliding to 1.7 per cent.

With the US and Japan, the world’s biggest and third biggest economies, both recording critical debt levels, a catastrophic crisis is predicted for developing nations in 2023. Economists at the World Economic Forum had warned that the situation would be aggravated by a confluence of high-interest rates, fast inflation, weak growth, and a strong currency. This implies that even if the economic problems in borrowing nations worsen, attempts to reduce debt will have a very tough time succeeding. This will probably result in a fresh wave of defaults. An economic slowdown will become more evident in 2023 as companies and individuals reduce spending and investment.

Economists also see negative supply shocks and stagflation to persist in 2023, creating a much more challenging scenario. Governments may also be compelled to curtail expenditure in order to pay off debt, which might result in cuts to crucial initiatives like healthcare and education.

Economists argue that the root of the global debt problem is that recessions are frequently accompanied by a string of financial crises in emerging markets and developing economies, which would result in slower GDP growth, less foreign cash and liquidity in those nations, and a consequent reduction in their capacity to pay back debts, leading to an increase in payment defaults.

Over the last 15 years, government debt-to-GDP leverage grew by 76 per cent, to a total of 102 per cent from 2007 to 2022. Meanwhile, Federal Reserve funds and European Central Bank rates were up an average of three percentage points in 2022. “Assuming 35 per cent of the debt is floating rate, this means $3 trillion more in interest expenses, or $380 per capita,” they noted.

“Write-downs, rescues, and more cautious lending may be one way to reduce global debt that, by our calculations, averages $37,500 for each person in the world,” said the report titled, “Global Debt Leverage: Is A Great Reset Coming?.” The report was originally published in January 2023, as part of a “Look Forward” series on disruption in global economies and markets.